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Derivatives

Hedge Fund Sees Value In Mispriced Warrants

AXA Investment Managers' recently launched Asian absolute return fund plans to enter equity arbitrage opportunities, such as warrants trading at a discount to the underlying, as these offer free money, according to Andrew Alexander, managing director of alternative investment strategy for Asia Pacific in Hong Kong. In these trades the hedge fund can buy the American-style warrant and sell it instantly at a premium. Alexander declined to comment on a specific trade but said a recent example of this arbitrage opportunity is Want Want, the snack food manufacturer.

The Want Want warrant has traded at a discount to the underlying share over 18% of the time over the last several weeks. For example, during those times when the market was mispricing the warrant the hedge fund could buy the warrant for USD0.61, exercise it at the strike of USD1.25, and sell the resultant long position at the current price of USD1.83, Alexander explained. This would give it a profit of USD0.03 which shows, "the market is dumb 18% of the time," he quipped.

In developed markets the high number of players means mispricing of options and the underlying rarely occurs, but Alexander said the lack of short sellers and market pros watching the stocks in Asia means arbitrage opportunities still exist. The market will likely correct itself when the company announces results or holds an annual-general meeting, which brings the company to traders' and brokers' attention.

Alexander said the fund's aim is to return 20% per year over a three-year period and will limit its capacity in order to remain nimble enough to achieve this. He expects that will be USD250 million but could be higher depending on opportunities in Japan. The fund is not being marketed yet and has USD15.5 million under management.

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